How to Play Poker (or Invest) Like David Einhorn

In some circles, David Einhorn is admired as much (or even more) for his poker abilities than his investing skills. But as Einhorn himself points out in this article his strategy with both is similar. 

Einhorn has said his approach to poker resembles his approach to investing: He doesn’t play a lot of hands. When “the situation feels right, I put in a big, aggressive raise with a marginal holding,” he said in a 2006 speech. “It is very hard to describe how I know the ‘feel,’ and sometimes I get it completely wrong. But to do well in a poker tournament, you have to recognize a few non-traditional opportunities and you need to get people to sometimes fold the better hand. I think we invest similarly. By this, I mean that most of our investing lines up nicely in the disciplined, traditional value camp—very low multiples of book value, revenues, earnings, etc., but occasionally we are opportunistic and invest in situations that are difficult to justify under traditional criteria."

The article contains some inaccuracies--for example, Einhorn wasn't bluffing and thus couldn't have been out-bluffed--but in addition to the above it contains how many millions Einhorn won playing poker this time and how Einhorn felt doing so.

This year, for Mother's Day, David Einhorn gave his mom "naches" like you wouldn't believe

So let's review. This week, David Einhorn:

• made a lot of money when Herbalife and Green Mountain crashed
• took down the Fed in an article that used the Simpsons as examples, and...
• won a poker tournament for Hillel.

I don't know if any Jewish mom can top that for naches this year, but I doubt it.

Einhorn's Current Thoughts on the Global Economy

Although we're sure to hear more details of his macro thoughts, and soon, in the recent conference call discussing Greenlight Capital Re's Q1 2012 results, Einhorn noted being concerned of...

• the structural debt problems in Europe and Japan
• the slowing Chinese economy
• high oil prices, and
• general inflation connected to the Fed's 0% interest rate policy.

What is he doing about it?

Again, we're likely to get more news on this soon, but in the call he mentioned owning...

• longs or shorts on an individual, non-macro, and compelling basis
• gold bars,
• gold miners, and
• other macro hedges.

You can read a full transcript of his comments over at Seeking Alpha.

The Headline that Made David Einhorn Smile

I have no inside information on this, but I'd be willing to bet that the following headline made David Einhorn smile:

Starbucks To Sell Single-Cup Brewer Verismo, Green Mountain Tanks

I saw this in my Facebook news feed, prefaced by my friend saying, "This looks promising." Indeed it does--but especially for those short Green Mountain shares.

You Can't Blame David Einhorn

As the recently released transcript of David Einhorn talking to the CEO of Punch makes clear, David Einhorn was right to sell out of the company. Here's an excerpt of the phone call:

PUNCH CEO: Well, I -- I think -- I -- I think the market sort of dictates this. I don’t think it’s a matter for the market to dictate that. We -- our view is simple, that is, that, you know, we have to make sure that we can preserve a sensible headroom to the covenant from a securitisation and -- and take out the convertible as the -- the maximum and minimum requirement of any discussion. But there’s absolutely -- if you go back over the history, and I know -- I -- and I -- and I perfectly respect that you’ve not been involved from the beginning, but when we originally floated the company, we did an initial public offering of 116 million pounds. We have only done since that time --, that’s 161 million pounds. We have only done, since that time, 175 million pounds [inaudible]. So, to be absolutely clear, I don’t -- I don’t look at the business from an equity perspective and if -- you know, and it’s not my intention to over-equitise this business whatsoever. The transactions that we’ve done, for example, we’ve shown, pretty substantially dispassion in what we’ve sold to ensure that we maximise value on the debt and, so this -- so it’s merely about making sure that -- and we can turn around to the shareholders and say, “Actually, anything that we do is sufficient to give ourselves a – headroom for a considerable period of time into the future and also addresses the convertible”. That’s the maximum and that would be the minimum that would be worth considering.

DAVID EINHORN: Mm hmm. So, would you -- as you pencil that out, what do those amounts turn out to be?

ANDREW OSBORNE: Something like 350 sterling.

DAVID EINHORN: 350 million sterling?

ANDREW OSBORNE: If you were -- if you were to roughly sort of work on the basis that you kinda took out the -- the converts, and that’s something that gives you, say, 10 percent headroom in within both of the covenants, filed covenants.

DAVID EINHORN: Wow, wow. That would be shockingly horrifying from my perspective. Can you sell half the company just at a buck and a half -- a Euro -- a pound and half? Oh, no.

ANDREW OSBORNE: So those proceeds are applied to buying back debt at say 60 in the pound and remember any --

DAVID EINHORN: Who cares -- --

PUNCH CEO: [inaudible].

DAVID EINHORN: -- who cares, who cares, after a year of going through this, now we’re going to dilute ourselves like this. Oh, no.

ANDREW OSBORNE: Why do you get diluted?

DAVID EINHORN: Because you doubled the share capital almost.

PUNCH CFO: Yeah, but [overspeaking]...

Consider what Einhorn just heard. He just heard the CEO of a company he owns a large amount of equity in tell him that he doesn't view the business from the perspective of an equity holder. Later on, the CEO doesn't even appear to understand how nearly doubling the share count will dilute current equity-holders.

I'd sell as many shares as I could after that conversation, assuming I owned any. To the point, however, Einhorn has no duty to other shareholders to not sell shares of a company when he learns something such as this affecting Greenlight's investment.

The only person in a fiduciary position here is that CEO. You can blame him for being an idiot many times over. But you can't blame Einhorn--or at least shouldn't.

Short Stocks Like David Einhorn?

Business Insider recently linked to an interview with David Einhorn in which he lays out how he short stocks--or at least how he did it in this past financial crisis. Here's the relevant section:

Interviewer: Okay. I guess I want you to continue to sort of chronologically in August of ’07, as you said you see BNP Paribas freeze redemptions and that gives concern and you’re talking to the rating agencies among other things and you’ve identified the type of companies that you had concerns about. Can you just sort of take us through chronologically through the end of ’07 and into ’08 and how things changed, if at all, for you folks?

David Einhorn: Yeah absolutely. So this is sometime in August, we put on a bunch of positions and our team here basically divided up the names for sort of further work cause we wanted to figure out which were the ones that were the most exposed. Whereas the initial couple dozen was ticked off relatively quickly over the course of a weekend, which is not our normal amount of time to [do] due diligence, but I felt that given what was going on, there may not be a lot of time. And so we began putting on those couple dozen positions a little faster than we ordinarily would if we were just researching an individual security.

So from there we began concentrating our work and trying to figure out well which were the better, more exposed companies and which were the less exposed companies and over the course of the next couple of months, we focused the list down and we covered a number of the shorts and we increased a number of the shorts as we focused on the people that we thought were most vulnerable.

In sum, Einhorn quickly shorted a group of businesses in an industry with problems, worked feverishly to differentiate the worst of that bunch from the best, and then covered his shorts or added to them accordingly. You can check out the rest of the interview at Santangel's Review.

Update: Fooling Some of the People

A bit over a year ago I pointed to my review of David Einhorn's book Fooling Some of the People All the Time, saying that you could read the opening paragraphs online. Since that time, Einhorn has linked to that review from the book's website and the editor of The Objective Standard has allowed the review to be read in full online. Enjoy!

Review of Einhorn's Book

In preparation for writing a review of Fooling Some of the People All the Time, I read all 16 reviews (from mostly major publications) listed at its site, and others besides.

With a few exceptions, most did not actually review the book--showing what it said and why what it says is important. I set out to write a review that did do these things. And I did. You can read the opening paragraphs of it here, at The Objective Standard.

Note, for the curious, this is partly why my posts here are going to be few and far between. I decided to focus on doing a few in-depth, quality articles or reviews rather than the many posts I've been putting up here these past few months.

Greenlight: History Behind the Name

I previously posted the somewhat complicated history behind Leucadia's name. For the curious, the history of how Greenlight Capital got it's name is pretty simple. It was given by Einhorn's wife.

As he explains it in Fooling Some of the People All The Time:

"In early 1996 ... Cheryl named the firm, giving me the green light. When you leave a good job to go off on your own and don't expect to make money for a while, you name the firm whatever your wife says you should."

Greenlight's Q1 2009 Letter

Greenlight's 2009 Q1 Letter detailed his holdings of Ford debt, as well as the common stock of Pfizer, Harman, and EMC. For example, Einhorn explains why Greenlight invested in Ford debt:

Ford is the third largest auto manufacturer in the world. We bought a large amount of secured bank debt (term loan and revolver), of which there is $14.7 billion outstanding, at an average price of 37% of par, starting in the fourth quarter of 2008.

The bank debt is secured by almost all of Ford’s assets including most of Ford’s manufacturing plants, inventory and accounts receivable, working capital, its investment in Ford Credit, most of Ford’s foreign subsidiaries including intercompany debt to Volvo, 66% to 100% of the stock of all major first tier foreign subsidiaries (including Volvo and Grupo Ford S. de R.L. de C.V., a Mexican subsidiary), and certain domestic intellectual property, including trademarks (i.e. the famous blue logo). In addition, Ford has over $20 billion of cash, which it had been burning at a good clip (we expect cash burn to fall). Even so, the collateral pool is worth many times the implied $5 billion valuation of the secured debt.

We observed that when the U.S. Government invested in General Motors, it put its money in junior to the secured bank debt. Even so, it does not appear that Ford will need a government loan any time soon, if ever.

Ford had the foresight to borrow money when the debt markets were accommodating. Ford reacted faster than its competitors to the slowdown by cutting production and other costs, improving manufacturing efficiency and vehicle quality. If auto sales stabilize at these low levels, Ford should reach cash flow breakeven in 2010 and generate $4 to $5 billion of automotive operating income in the next mid-cycle of automobile sales.

We also bought a smaller amount of various bond issues at Ford’s credit subsidiary at very large annualized yields to near-term maturities. The secured bank debt ended the quarter at 45% of par.

The letter, which ends with a quote by JFK--saying that "a nation that is afraid to let its people judge the truth or falsehood in an open market is a nation that is afraid of its people"--can be read in its entirety at Todd Sullivan's Value Plays.

Einhorn on the Economy

David Einhorn's comments on the market,from the GLRE conference call, are excerpted below:

...In the first quarter Greenlight Re’s investment portfolio had a better result than it did in the prior two quarters.

There are several factors that contributed to this. First, we enter 2009 with a very conservative posture, about 80% long and 40% short or about 40% net long. Although we are holding a good amount of cash, we became more concerned about the market as it sold off in January and became even more defensively positioned ending January at just 29% net long.

As things continue to dislocate through February, we used this as an opportunity to cover a number of short positions and entered the March slightly more a net long. We also added to our debt portfolio particularly in Ford Motor secured bank debt. At the beginning of the year our debt portfolio was about 12% of capital. We ended the quarter was about a 17% weighting in debt instruments.

Greenlight as always invested in debt instruments with that part of the corporate capital structures offered compelling unlevered returns. We started accumulating our debt portfolio in October of last year and have built our allocation in a patient fashion as markets begin further dislocated.

...

Our current debt portfolio is invested in US companies and we have been mindful of the liquidity in each of the issues of which we are invested.

In addition to moving up the corporate capital structure, we have also constructed a less concentrated portfolio and we have to start it. Although we have found many compelling investments that appear to be at bargain prices, this is temporary by the worst economy most of us have seen. It is very difficult to develop a high degree of confidence in corporate revenues in earnings even in well established profitable companies with conservative balance sheets.

So we have offset some of this idiosyncratic risk by holding a more diversified portfolio.

...

We continue to be cautious about the environment, especially in light of the market latest rally, and aren’t as convinces as some others to the government response to the prices to date will actually fix the problems in the economy. We think this take some time to play out as the normal forces of supply and demand exert themselves. We continue to be worried about monitory actions and the fiscal situation and continue holding some of our cash involved for the time being.

It's important to remember that Einhorn is speaking for GLRE and not for Greenlight Capital. (Though his thoughts in many cases will be the same, the nature of both investment vehicles can be expected at times to lead to different strategies.)

For the rest of the transcript, which Seeking Alpha provides free of charge, click here.

Einhorn Doesn't Like Bugs

At least not of the Volkswagen variety. A recent article in the Wall Street Journal explains why:

Numbers normally speak for themselves with investment returns. It is a rare case when no figure can portray the full impact.

Hedge-fund manager David Einhorn (left), of New York’s Greenlight Capital, in a recent investor letter listed in a table the internal rate of return of 14 positions he closed in the first quarter. A bearish bet on jewelry retailer Zale generated a return of 92% and another on U.S. Bancorp returned 78%, Greenlight said in the May 1 letter. Then there were investments in companies such as Dr Pepper Snapple Group and Aldar Properties that generated losses of 46% and 91%, respectively, it continued.

But for the by now infamous Volkswagen trade, which dealt a punishing blow to hedge-fund managers around the world last year, Greenlight didn’t list a figure. It simply said, “bad.”

The only additional explanation it gave: “a relatively small position that caused a large loss.”

The article goes on to say that the position ending up costing Greenlight over one percent of its performance for the year.

Einhorn Likes Bagles

Does that come as a surprise to anybody? Probably not. But did you know that David Einhorn owns almost seventy percent of BAGL--the common stock of the Einstein Noah Restaurant Group?

Below is an excerpt from a recent news article about four new franchises of the company opening up in Georgia:

Steele and her partners, Stuart and Marian Gertman and Roger Weiss, recently purchased the rights to open four franchises in an eight-county area of the CSRA. The first one, on Washington Road in front of the Kroger shopping center, broke ground on Feb. 4 and they started training staff on March 23.

“Corporate was incredibly helpful,” Weiss says. “They sent six people here from other locations to help us. We have all worked 12 hours a day, six days a week to get open.”

Einstein Brothers is known for their bagels, which contain no preservatives and are baked fresh daily. They offer regular coffee, flavored and specialty coffees, hot and cold teas, hot chocolate, sodas, and frozen drinks from coffee, ice cream or fat-free fruit base.

“Our brand is all about taking bagels to work and targeting the night-shift people just getting off work,” says general manager Seddrick Brown. “Our hours are early morning to early evening. We are ‘fast casual.’ Convenient, but definitely not fast food.”

For the full article, click here.

Ira Sohn Research Conference

My wifi access here in Hanoi has been bad all day. Just going to post an announcement for where you can hear a bunch of great investors speak live:

In this era of prolonged economic downturn, with insightful market information at a premium, the Ira W. Sohn Research Conference Foundation today announced the speakers for the 14th Annual Ira W. Sohn Investment Research Conference to be held on May 27, 2009, from 2:30 to 6:30 PM at New York City's Frederick P. Rose Hall, the home of Jazz at Lincoln Center.

The Ira W. Sohn Investment Research Conference is the first of its kind to give premier investors a stage for explaining their best investment strategies and ideas.

Past conferences have been host to some of the most innovative investment advice to be released in a public forum, resulting in immediate market impact and long-term returns. Stock picks and market insights shared by previous conference speakers have proved extremely profitable for attendees. Several presentations at last year's event offered crucial analysis, including David Einhorn's comprehensive review of Lehman Brothers that foretold the company's fate and Michael Price's sobering thoughts on Wachovia.

"We always deliver fresh perspectives on the market," said Daniel Nir, Co-Chair of the Ira W. Sohn Investment Research Conference and Managing Partner of Gracie Capital. "Now more than ever is the time for a conference with a track record of producing the kind of results our conference provides." Conference Co-Chair Douglas Hirsch, Managing Partner of Seneca Capital, added, "Investors come to this event every year hoping to get several good ideas and one great idea - they have yet to be disappointed."

Einhorn (and Buffett) on Position Size

Here, from page 19 of Fooling Some of the People All the Time, is Einhorn sharing how he sizes both longs and shorts within Greenlight's portfolio--and why:

It is hard to find long ideas that are ones and twos or shorts that are nines and tens, so when we find them, it is important to invest enough to be rewarded.

Based on this concept, we decided that Greenlight would have a concentrated portfolio with up to 20 percent of capital in a single long idea (so it had better be a [good] one!) and generally would have 30 percent to 60 percent of capital in our five largest longs.

We would size the shorts half as long as we would longs of the same quality, because when shorts move against us, they become a bigger portion of the portfolio and to give us the ability to endure initial losses and maintain or even increase the investment.

Like reading about a company he's invested in, knowing why Einhorn has done something is as (if not more) important than following it without further thought.

Here, he takes big bets on the best ideas he can find. And, as the book from which this quote is taken shows, he knows these companies inside out.

Do you know the companies in your portfolio well enough to write more than a one page introductory statement on them? How about a book? Can you name their top five suppliers, salespeople, or customers with ease?

If not, you may well choose to size your bets differently. And you should. Warren Buffett states both points here better than I, so I'll give him the rest of the post to do so:

We think diversification, as practiced generally, makes very little sense for anyone who knows what they're doing. Diversification serves as protection against ignorance. If you want to make sure that nothing bad happens to you relative to the market, you should own everything. There's nothing wrong with that. It's a perfectly sound approach for somebody who doesn't know how to analyze businesses.

But if you know how to value businesses, it's crazy to own 50 stocks or 40 stocks or 30 stocks, probably because there aren't that many wonderful businesses understandable to a single human being in all likelihood. To forego buying more of some super-wonderful business and instead put your money into #30 or #35 on your list of attractiveness just strikes Charlie and me as madness.

Einhorn on Investing Benchmarks

I've said it before, and I'm sure to say it again, understanding how great investors think about investing is much more valuable than discovering their latest pick.

Here, from page 17 of Fooling Some of the People All the Time, is Einhorn sharing what he thinks an appropriate investing benchmark is--and why:

"We consider ourselves to be absolute-return investors, and do not compare our results to long-only indices. That means our goal is to try to achieve positive results over time regardless of the environment.

I believe the enormous attraction of hedge funds comes from their absolute-return orientation. Most long-only investors, including mutual funds, are relative-return investors; their goal is to outperform a benchmark, generally the S&P 500.

In assessing an investment opportunity, a relative-return investor asks, 'Will this investment outperform my benchmark?' In contrast, an absolute-return investor asks, 'Does the reward of this investment outweigh the risk?'

This leads to a completely different analytical framework. As a result, both investors might look at the same situation and come to opposite investment conclusions."

That excerpt is worth reading (at least) twice. Notice how the benchmark Einhorn uses focuses his attention on the nature of an investment itself and in particular its risk-reward profile.

Some questions to leave you with:

Is this focus on the facts of a particular investment (and how one comes to conclusions based on them) peculiar to Einhorn--or is it a method shared by other great investors?

What is your benchmark? For instance, are you primarily focused on specific companies and on learning everything about them, or on what others as a whole are doing and the returns they've earned year-to-date?

Einhorn Buys Ticketmaster

From BusinessInsider:

Hedge fund manager David Einhorn's Greenlight Capital recently took a 5.2% stake in Ticketmaster, according to regulatory filings.

...

"Einhorn is a very sharp, value-oriented manager," Gould notes, suggesting that Einhorn chose to pick up his nearly 3 million shares because he thinks Ticketmaster's stock is at a good price. Currently trading at around $4 a share, TKTM has likely been bogged down by concerns that its proposed merger with Live Nation wouldn't be approved for antitrust reasons.

...

Paulson Joins Einhorn--in Gold

We reported earlier that Seth Klarman was investing in gold--like Einhorn. Paulson is getting long the noble metal as well:

Paulson, bought a stake in AngloGold Ashanti Ltd. (AU) from Anglo American Plc for $1.28 billion as hedge funds increase their gold holdings.

Paulson paid $32 a share for the 11.3 percent stake in the Johannesburg-based gold miner, Anglo American said today in a statement. The purchase makes Paulson the company’s second- largest shareholder, according to data compiled by Bloomberg. Paulson also owns a 4.1 percent stake in Kinross Gold Corp (KGC)., making the hedge fund the fourth-largest holder of the gold producer.

Hedge funds are turning to gold to mitigate potential inflation as governments around the world increase spending to stimulate their recession-bound economies. David Einhorn, founder of New York-based Greenlight Capital Inc., told investors in January that he is buying gold for the first time. Hayman Advisors LP’s Kyle Bass said investors are seeking precious metals as central banks print more money.

“Hard currency is coming to the fore, as evidenced by the investment choices of some of the world’s most seasoned investors,” AngloGold Ashanti Chief Executive Officer Mark Cutifani said today in an e-mailed statement.

Greenlight's New Positions

StreetInsider.com reports that Greenlight just disclosed new positions in two beaten down stocks:

A 5.1% ... stake in Harman International (NYSE: HAR).
A 5.5% ... stake in Jones Apparel Group (NYSE: JNY).

As we've said earlier, the reasoning of great investors is better to follow than their newest picks, but there's value in both.

Einhorn Still Short Allied

I am close to completing an in-depth review of Einhorn's Fooling Some of the People All the Time--which, though it won't be published here, I'll be sure and send a link to. Here's some updated news on the long short story:

Shares of Allied Capital Corp have been wiped out over the past year, but David Einhorn, the hedge fund manager who has famously shorted the business lender's stock, feels more vexed than vindicated.

That's because the past year's financial markets collapse has produced even more serious fall-out. From the demise of Lehman Brothers to Bernard Madoff's massive Ponzi scheme, the questionable accounting practices of a small lender was just one product of sleepy regulatory oversight, Einhorn told Reuters in an interview.

"What we've seen a year later is that Allied was the tip of an iceberg; that this kind of questionable ethic, philosophy and business practice was far more widespread than I recognized at the time," he said. "Our country, our economy, is paying a huge price for that."

Einhorn, head of the $5 billion hedge fund firm Greenlight Capital, made headlines in May 2002 when he told an audience he believed Allied's stock was overvalued. He argued Allied was slow to mark down depressed assets -- often equity stakes in small private companies -- and stretched accounting rules.

Greenlight shorted the stock, meaning it would profit if Allied's price fell. Einhorn also submitted what he considered red flags to the Securities and Exchange Commission, expecting that the agency would investigate.

Instead, what followed was a long public battle between Einhorn and Allied, which denied and continues to deny wrongdoing, as well as SEC scrutiny of the hedge fund manager's short-selling activities.

Allied stock is now around 97 percent lower from where Einhorn sold it short. Einhorn's comment above about how far more widespread the problem was than he realized is exactly correct. My review will show why--on a fundamental level--and, in doing so, show the fuller, true value of Fooling Some of the People.

It was and is far more than simply a book about a single short case in a single company--telling what went wrong and why. For a more exact identification, stay tuned